The FTSE All-World equity index fell 0.15 per cent, after the Asia-Pacific region lost 0.2 per cent. And the FTSE Eurofirst 300 ended the session 0.5 per cent lower, in spite of strength in the bank sector following an easing of mooted regulation.

On Wall Street, the S&P 500 closed 0.3 per cent lower in New York.

However, that left the broad measure of US stocks only slightly below Friday’s five-year high after a strong start to 2013.

The S&P 500 rose 4.6 per cent last week – gains reflected globally – as investors cheered Washington’s compromise on the fiscal cliff deal. Further evidence of improving economic conditions in the US and China also helped support demand for growth assets.

Equities also continued to find support from ultra-easy monetary policy from many of the world’s largest central banks. An example of that has been seen recently in the Japanese stock market, where the Nikkei 225 had by the end of last week risen more than 20 per cent since mid-November on expectations that the Bank of Japan would expand its asset purchasing programme.

But the Nikkei fell 0.8 per cent yesterday as investors used a pause in the yen’s recent slide – which had boosted export-focused stocks – as an excuse to take profits.

Traders were also wary that the Tokyo market looked vulnerable to a pullback, after the Nikkei’s relative strength index (RSI), a measure of momentum, moved into “overbought” territory, which is deemed to begin at higher than 70.

Such concerns probably explained the broader market caution at the start of the week. For example, at the close on Friday, the RSI of the FTSE All-World was 73 and the FTSE Eurofirst 300’s was 74.

The S&P 500’s RSI was less extended at 64, although the Vix index – often described as Wall Street’s fear gauge – also suggested that investors might have been too complacent at the end of last week, and thus sensitive to a retracement.

The Vix, a gauge of the price traders are prepared to pay to protect against volatility, which usually falls when the market is more relaxed, shed nearly 40 per cent in just four sessions last week to settle at 13.8 on Friday.

Such a low level has often been a precursor to a market retracement, and yesterday, as the equity market moved lower, the Vix rose as much as 3 per cent before paring gains.

It may also be the case that dealers were more cynical about the “post-cliff” bounce given the fiscal hurdles that still need to be navigated in Washington and the potential for drawn-out debate to affect sentiment once again.

The slip in stocks was not translating into much of a rally for the recently battered US Treasury market, however.

The yield on the 10-year note – which rose to an eight-month high of 1.97 per cent at one point last week, with some fearing that the Federal Reserve’s quantitative easing programme may be shorter than expected – was little changed on the day at 1.90 per cent. The German Bund yield, meanwhile, fell 3bp to 1.52 per cent.

The recently widening yield differential between Treasuries and Bunds was initially supporting the dollar yesterday, but this support also faded.

The dollar index fell 0.3 per cent and the euro rose 0.3 per cent to $1.3114.

However, the weaker dollar did not help dollar-denominated commodities.

Gold fell $11 to $1,646 an ounce, and flirted with a four-month low, while copper fell 0.6 per cent to $3.67 a pound. Brent crude reversed declines and rose 40 cents to $111.58 a barrel.

Global risk assets started to lose momentum earlier in the session, while haven currencies such as the yen found buyers as the relief rally that greeted the deal in Washington to avoid the fiscal cliff started to fizzle.

A positive surprise from ADP private sector employment data in the US was well received, helping support gains in the S&P 500 during morning trading.

But the broad measure of US stocks erased gains and the US dollar jumped after the release of the minutes.

Officials “thought that it would probably be appropriate to slow or stop purchases well before the end of 2013”, according to the minutes.

The FOMC comments “regarding slowing or ending asset purchases caught many market participants by surprise and helped send the greenback to fresh session highs across the board”, said Omer Esiner, chief market analyst at Commonwealth Foreign Exchange.

“Any signs that the Fed intends to slow its current pace of policy accommodation remains broadly supportive of the US dollar.”

Investors bought the US currency, pushing the dollar index up 0.7 per cent, as the euro touched a three-week low against the greenback, below the $1.31 level.

In contrast, gold prices sold off, with the precious metal falling 1.4 per cent after the release of the minutes, to hit a session low at $1,623.64 an ounce.

The US 30-year bond sank a full point, while its yield rose 6 basis points to 3.10 per cent. The 10-year note yield jumped 7bp to 1.90 per cent, a seven-month high.

The FTSE All World index spent much of the day in negative territory, also dragged lower by declines in most European equity markets. The global benchmark index closed 0.3 per cent lower as the S&P 500 ended the session down 0.2 per cent.

On Wednesday, the S&P recorded its biggest one-day gain for more than a year on relief that US politicians had reached a compromise to avoid an excessive tightening in fiscal policy

But Jane Foley at Rabobank said a stronger sense of reality over US budget affairs had started to trickle back into markets.

“While the reluctant deal forged between Republicans and Democrats earlier this week may have tied up the loose ends with respect to taxes, US politicians still have to negotiate an agreement over $1.2bn of impending spending cuts,” she said.

Andrew Wilkinson, chief economic strategist at Miller Tabak, noted growing concerns that restrictions to tax exemptions had been an unseen part of the plan, and that consumer spending in the US would be bound to suffer this year.

“We do not refute the fact that there is an element of fiscal drag going on during 2013,” he said.

“Yet we stick to the folklore legend that warns never to write off the American consumer.

“We put greater emphasis on a critical offset to fiscal drag in the form of gently rising business and consumer confidence as the impact of the financial recession fades and the fact that employment is increasing.”

The US jobs market will take centre stage today with the release of the nonfarm payrolls report for December. Employment figures yesterday offered mixed signals, however.

According to ADP, private sector payrolls rose by 215,000 last month, the biggest monthly increase since February. But the latest Challenger report showed that job cut announcements in December fell to the second lowest monthly total of 2012.

In commodities, Brent oil extended declines to trade 62 cents lower at $111.84 as copper also gave back some of Wednesday’s big rise.

Global equities jumped to their highest levels since mid-2011, Brent crude hit an 11-week high within a whisker of $113 a barrel before paring some gains and gold moved back towards $1,700 an ounce. The desire to take on risk drove Treasury bond yields up sharply, to three-month highs.

However, there was a widespread view among analysts that in spite of the bullish market reaction, the compromise between Senate Republicans and the White House fell far short of what was really needed.

“This is a rally based on pricing out what could have happened had there been no deal, as opposed to a reaction to the deal itself,” said Divyang Shah, global strategist at IFR Markets.

Indeed, the stage now appears to have been set for further US fiscal wrangling, given that the agreement was solely on the issue of taxes and contained no provision to raise the debt ceiling – and that scheduled spending cuts had only been delayed for two months.

“The worry for the markets is that all of the last-minute decision-making and very partisan nature of recent budget talks will only add to businesses’ misgivings about investing in the medium term,” said Gary Dugan, CIO Asia and Middle East at Coutts.

“The absence of a pick-up in capital investment or hiring plans is due at least in part to concerns over the ongoing political battles.”

However, some analysts argued that investors should take the US fiscal issue in their stride in 2013.

“Political muddle, mistakes and self-delusion will be as much of a feature of the investment landscape in 2013 as they were in 2012 – and should be no barrier to similarly solid returns,” said Max King, strategist at Investec Asset Management.

“Of much greater importance is the question of whether steady global growth will stabilise the outlook for corporate revenues and earnings after more than 18 months of steady disappointment.”

And there was some encouraging news on the global economy for investors to digest as the latest round of purchasing managers’ reports suggested that the manufacturing sector had ended 2012 on a positive note – with the notable exception of the eurozone.

In the US, the Institute for Supply Management’s December index of factory activity rose above the 50 level that nominally separates expansion from contraction.

There were positive reports from a number of Asian countries, while the UK’s PMI reading came in stronger than expected. The figures came hard on the heels of recent data showing expansion in China’s manufacturing sector.

However, the final reading of last month’s eurozone PMI was revised down from the “flash” estimate.

“A further drop in manufacturing output seems very much on the cards for the first quarter of 2013 and any significant recovery in manufacturing activity still looks some way off,” said Howard Archer, economist at IHS Global Insight.

But there was little room for negativity yesterday as far as the markets were concerned. The FTSE All-World equity index climbed 2.1 per cent as the S&P 500 closed 2.5 per cent higher in New York. The FTSE Eurofirst 300 gained 2.1 per cent.

In commodities, Brent oil touched $112.90 a barrel before easing back to $112.30, still up $1.19 on the day. Copper rose 3.5 per cent to $8,210 a tonne and gold hit a two-week high of $1,694 an ounce.

On currencies, the Australian and New Zealand dollars gained ground, while German and US government bonds suffered a sharp sell-off. The 10-year Treasury yield rose 8bp to 1.84 per cent.

Ed Yardeni at Yardeni Research believes that, having survived another year of living dangerously, the markets can do it again.

“Europe and China seem to pose less danger for investors in the coming year,” he says. “The US economy is actually in remarkably good shape, as long as the fiscal cliff is averted.”

Stocks on Wall Street ended Monday, the last trading session of 2012, on a high note ahead of a vote in the Senate yesterday approving a bipartisan budget deal negotiated with the White House to avert the fiscal cliff. Most markets were closed yesterday.

Uncertainty over whether US politicians could agree a deal to avert the cliff of looming spending cuts and tax rises had dominated market sentiment in the final weeks of 2012.

Andrew Wilkinson, chief economic strategist at Miller Tabak, is optimistic about the US economy, however. “We estimate that for 2013 as a whole the US economy will continue to create jobs and grow at around 3 per cent as the global economy pulls out of recession,” he says.

“The outcome of fiscal discussions in Washington is likely to leave a positive aftertaste for investors who quickly want to get a rally for stocks back on track.”

Among analysts there is an undercurrent of optimism about the coming year. Julian Callow, chief international economist at Barclays, expects 2013 to be the year in which “tailwinds finally begin to overcome headwinds”.

Mr Callow adds: “However, the economic effect of this is likely to be apparent more in 2014, and risks – while moderating – are still present. Central banks, particularly the Federal Reserve and Bank of Japan, look set to persist with an aggressive pace of asset purchases, although EU central banks are likely to be more cautious. Overall, the ultra-low real interest rates – and expectations thereof – in the ‘core’ markets have resulted in a shift towards stronger risk appetite.”

The pivotal event for the eurozone in 2012 was the European Central Bank’s pledge to do “whatever it takes” to save the euro and of potentially unlimited government bond buying.

Gary Jenkins at Swordfish Research says the ECB has taken the short-term risk of a eurozone sovereign liquidity crisis off the table.

“Thus the major risk to the eurozone in 2013 is one of a slightly slower-burning nature,” he says. “It is unlikely that any incumbent politician will invoke a move away from the euro, but there remains the possibility that someone not currently in power will run on a mandate of ‘default and be damned’.”

Concerns about the possibility of a “hard landing” for the Chinese economy also appear to have faded.

“The Chinese government and the People’s Bank of China have been successful in stabilising growth in 2012,” says Ashley Davies at Commerzbank. But he warns: “Some investors are looking for the new leadership to turn on the stimulus taps in the year ahead and for activity data to rebound.

“However, stabilisation does not imply a rebound, and there is scope for disappointment as the market adjusts to the reality of sustained slower growth.”

And there could be further positive developments for the global economy from Japan as the newly elected Liberal Democrat party puts pressure on the central bank to take aggressive stimulus action.

“Japan finally emerging from a double decade of the doldrums would be the icing on the cake for investors,” says Oliver Wallin at Octopus Investments.

“It is early days, though, and it will be interesting to see how responsive the BoJ is to political pressure.”

A successful Italian auction of €11.8bn debt combined with a positive move in US jobless claims and new homes sales figures provided a constructive backdrop for trading in risky assets.

But sentiment soured later in the session as downbeat comments from US Senate majority leader Harry Reid damped hopes of any breakthrough in fiscal cliff negotiations.

The FTSE All World index slid to losses of 0.4 per cent after earlier standing 0.3 per cent higher during European trading.

Haven assets such as the dollar, Bunds and US Treasuries overcame early weakness to surge into positive territory for the session as investor nerves heightened.

“The positive story about the current state of the US economy has been backed up by a firm new home sales reading,” said James Knightley at ING Bank. “It shows that, if we can get a deal on the fiscal cliff, the US is looking in pretty good shape for 2013.

“However, the uncertainty is huge and if a deal isn’t achieved – Senate majority leader Harry Reid was quoted as saying going over the fiscal cliff ‘looks like where we’re headed’ – then a return to recession is a realistic possibility.”

Earlier in the session, all trading eyes had been on the yen’s continuing fall as investors positioned ahead of expected aggressive easing by Shinzo Abe’s new government.

“The confirmation of the new coalition government saw the yen weaken even further to its weakest level since September 2010,” said Emily Nicol of Daiwa Capital Markets. “The expectation of additional fiscal stimulus also provided another boost to Japanese equities with the Nikkei 225 closing at its highest level since last year’s earthquake.

“Japanese government bonds continue to come under pressure with 10-year yields rising to a more-than-three-month high.”

Neil Mellor, of Bank of New York Mellon, added: “What Abe and his cabinet are rolling out could well have serious implications for the yen, the JGB market and ultimately, the longer-term stability of Japan’s monolithic mountain of debt, whose servicing costs could not withstand European levels of interest.”

In equity markets, Asian stocks rose for a third session, the FTSE Asia Pacific index climbing 0.5 per cent and closing back in on 18-month highs.

But the gains were offset by losses in New York with the S&P 500 retreating 0.1 per cent while European markets also closed marginally lower.

US stocks were also weighed by disappointing Conference Board figures signalling rising consumer alarm for the future.

“The sharp split between how consumers view the present economic situation and future conditions drives home the importance on reaching an acceptable and credible agreement on the issues making up the fiscal cliff,” said Mark Vitner of Wells Fargo.

In the government bond markets, the flight to safety pushed Bund yields to a two-week low, down 6 basis points to 1.32 per cent while 10-year US Treasury yields fell 2bp to 1.73 per cent.

Italian yields climbed 7bp to 4.54 per cent despite the successful auction of shorter-term debt with investors refocusing on today’s sale of longer-term notes.

In the currency markets, the dollar index rose 0.1 per cent as the yen depreciated above the Y86 level against the US currency for the first time since August 2010. The euro made a slight gain of 0.1 per cent to $1.3240.

In commodity markets, Brent crude oil slipped 27 cents to $110.80 a barrel but upbeat data on Chinese industrial profitability helped push US copper prices up 0.2 per cent to $3.59 a pound.

In the US, news that Barack Obama would cut short a holiday in Hawaii to return to Washington for last-ditch budget negotiations with Congress initially offered support to US equities.

But those early gains evaporated as investors increasingly appeared to take the view that a deal was unlikely to be reached before the end of the year to avert growth-sapping tax rises and spending cuts.

Optimism was severely undermined last week when John Boehner, the Republican House leader, failed to gain support from his own party for a draft bill designed to provide an alternative to measures initiated by Mr Obama.

In a recent note, Tom Porcelli, chief US economist at RBC Capital Markets, warned that political gamesmanship appeared quite likely to remain until the end of the year.

“We have long said that the real question was not ‘if’ we go over the cliff, but rather to what degree the cliff hits,” Mr Porcelli said. “At present, our 2013 economic projections include taxes rising on the wealthy and the payroll tax holiday lapsing.

“If those materialise, we believe first-quarter growth will clock in at just 1 per cent.”

By midday in New York, the S&P 500 index was down 0.6 per cent. Wall Street’s retreat came in spite of further positive news on the US housing market.

Data from S&P/Case Shill showed that house prices in 20 US metropolitan areas had risen by a seasonally adjusted 0.7 per cent in October, more than economists had expected.

“Overall, the S&P Case-Shiller data are consistent with others that show a broad-based increase in housing activity and prices across the country,” said Dean Maki, economist at Barclays.

“We expect this housing recovery to continue in the coming months.”

In the absence of European markets – which enjoyed a further day’s holiday – Japan provided a focus as Shinzo Abe was sworn in as Japan’s prime minister following an emphatic election victory for his Liberal Democrat party.

He said his government’s mission was to restore a strong economy, and he has pledged aggressive monetary easing by the Bank of Japan and big fiscal spending by the government to overcome deflation and weaken the yen.

The Nikkei 225 Average in Tokyo extended its recent strong run by another 1.5 per cent to close at a nine-month high, bolstered by gains for export-oriented stocks.

Those gains came as the yen struck a fresh 20-month low against the dollar. The Japanese currency also remained weak against the euro.

However, some analysts pointed out that Mr Abe’s stance risked reigniting global “currency wars”.

Divyang Shah, global strategist at IFR Markets, said: “To date, Japan has been conducting defensive policies when it comes to foreign exchange by limiting yen strength as opposed to pursuing yen weakness.

“But prime minister Abe seems willing to change this and potentially increase FX tensions and currency war rhetoric in general during 2013.”

The dollar rose as high as Y85.56 while the euro reached Y113.31.

Japanese government bonds fell back on expectations of further policy easing, with the yield on the benchmark 10-year JGB rising 2 basis points to 0.785 per cent.

By contrast, US Treasuries attracted demand as fiscal cliff uncertainty continued to dominate.

The 10-year yield fell 3bp to 1.75 per cent.

The final reading of US third-quarter GDP growth was revised up to 3.1 per cent from the previous estimate of 2.7 per cent.

Peter Newland, economist at Barclays, said the details of the GDP report were encouraging, with real final sales growth accounting for all of the upward revision.

“All in all, while GDP growth is likely to be somewhat softer in the fourth quarter, the stronger final sales backdrop in the third quarter leaves growth on a solid footing and we expect the picture of modestly above potential growth to remain in place,” Mr New-land said.

There was further positive news on the US housing market as data showed existing home sales climbing 5.9 per cent in November to a three-year high.

“The bottom line is that nothing in today’s data refutes the idea of a housing recovery and quite frankly, it serves to reinforce our more optimistic views,” said Dan Greenhaus, chief global strategist at BTIG.

Meanwhile, the Philadelphia Federal Reserve’s general economic index jumped to an eight-month high in December. “Therebound in the Philly Fed index appears to be due to factories catching up on the lost activity caused by superstorm Sandy in November,” said Paul Dales at Capital Economics.

“The recent improvement in global demand suggests that, once the dust of the storm and fiscal cliff settles, manufacturing output will start expanding again. But the global recovery will only go so far. US manufacturing will not enjoy a renaissance in 2013.”

The encouraging figures on the US economy were overshadowed by developments in legislators effort to reach agreement on the US budget in the near-term. Yesterday was a day of staking out public positions rather than striking private deals, and thus was nerve-wracking for investors.

Philip Marey, senior US strategist at Rabobank, said negotiations appeared to have ground to a halt.

“However, the ideological trenches have been left and the new battlefield is more about numbers than about dogmas,” he said. “That should give both parties a good chance to make a deal on the reduction of the fiscal cliff around the turn of the year.”

After swinging between positive and negative, the S&P 500 equity index closed 0.6 per cent higher, while the pan-European FTSE Eurofirst 300 index edged up less than 0.1 per cent.

In Tokyo, the Nikkei 225 Average fell 1.2 per cent as investors booked some profits on the market’s recent strong rally but also showed some disappointment that the latest policy move from the Bank of Japan had not been more aggressive

The BoJ expanded its asset-buying programme by Y10tn, in line with expectations, but stopped short of raising its inflation target – for now at least.

On the currency markets, the yen initially rallied against the dollar, but ended flat. “With prime minister-elect [Shinzo Abe] taking charge on December 26, expectations will be high that the BoJ delivers a more credible 2 per cent inflation target in January – keeping the yen under pressure,” said Chris Turner, head of forex strategy at ING.

The uncertainty over the US fiscal outlook prompted modest buying of government bonds, with the 10-year Treasury yield down a fraction at 1.90 per cent.

Industrial commodities retreated, with Brent oil down 27 cents at $110.09 and copper sliding 2 per cent to $7,772 a tonne, its lowest level in nearly a month.

Gold fell more than 1 per cent to $1,648 an ounce to its lowest level since late August, amid end-of-year liquidation by investors, dealers said.

The FTSE All-World equity index was up 0.2 per cent as Tokyo’s Nikkei 225 Average jumped 2.4 per cent to regain the 10,000 level for the first time in eight months and the FTSE Eurofirst 300 rose 0.4 per cent. Wall Street, though, paused for breath in the wake of the S&P 500’s biggest two-day rally in a month. The index accelerated down towards the close to end off 0.8 per cent.

The problem for US equities was the latest developments in Washington regarding the fiscal cliff of US tax increases and spending cuts due to kick in at the start of next year. Republicans are publicly pushing a standalone plan that would modestly raise tax income and leave other issues unresolved, but the White House has promised to veto that approach.

Better news for riskier assets came from Germany’s Ifo index of business sentiment, which improved for a second successive month in December.

Analysts noted that, while the current assessment component of the Ifo had dropped to its lowest level since June 2010, expectations recorded the strongest monthly increase since July 2010.

“With a worsening current assessment but improving expectations, today’s Ifo sends a clear message: things will go worse before they get better,” said Carsten Brzeski, economist at ING. “It looks as if any contraction of the economy should be short-lived.” The survey helped push the euro to an eight-month high against the dollar above $1.33, although it subsequently trimmed its advance. The single currency also reached its best level against the yen since August 2011.

The euro was also helped by news that Standard & Poor’s had late on Tuesday raised Greece’s sovereign credit rating and that the European Central Bank would again accept Greek government bonds as collateral for loans to banks.

The yield on Greece’s benchmark 10-year government bond tumbled about 150 basis points and there was a also better tone in other peripheral eurozone bond markets.

Spain’s 10-year yield fell 5bp to 5.27 per cent and Italy’s by 6bp to 4.39 per cent. German Bund yields rose 1bp to 1.43 per cent.

Tobias Blattner at Daiwa Capital, noted that, in spite of the good news from Greece, significant political risks to the outlook for the eurozone periphery remain.

He highlighted the risk of a looming constitutional crisis in Spain after Catalonia’s leading political parties signed a pact to hold a referendum on independence in 2014.

“In Italy, former prime minister Berlusconi was quoted as saying that Italy would be forced to leave the euro area if the German government was unwilling to agree to allow the ECB to act as a ‘real’ lender of last resort for stressed euro area governments,” Mr Blattner said.

US government debt also attracted some buying – albeit limited – as a recent sell-off attracted some bargain-hunters. The yield on the 10-year Treasury was down 1 basis point at 1.81 per cent.

There was relatively little impact from the day’s main US economic release. Housing starts by fell 3 per cent in November.

However, Michael Gapen, economist at Barclays, noted: “Despite the decline, housing starts are up 21.6 per cent year-on-year and stand at their second highest level since July 2008.”

Industrial commodities put in mixed performances as investors assessed the outlook for the global economy. Brent oil was up $1.51 and back above $110 a barrel although copper fell more than 1 per cent in London to $7,926 a tonne.

Gold eased 0.1 per cent to a fresh three-month low of $1,670 an ounce.

An outbreak of fiscal cliff-related optimism that began on Wall Street on Monday spread across world markets and continued through the US trading day.

The S&P 500 equity index jumped 1.1 per cent to close at 1,447, taking the benchmark to within 20 points of a five-year peak.

Combined with a 0.4 per cent gain for the FTSE Eurofirst 300 and a 0.5 per cent rise for its Asia-Pacific peer, this sent the FTSE All-World equity index up 0.9 per cent to 225, its highest close since the end of July 2011.

Bulls seized on news that President Barack Obama had offered a concession on tax increases – a sign, they said, that such compromise can ensure a budget agreement is reached before $600bn of tax rises and spending cuts are due to kick in at year-end.

“The overnight news on President Obama reducing his tax revenue demand by $200bn and raising the higher rate threshold to $400,000 from $250,000 is keeping the theme of fiscal cliff resolution alive,” said Richard Gilhooly, director of US rates research and strategy at TD Securities.

“This removal of fear is what is behind the knee-jerk reaction in bonds and equities.”

The view of many analysts seems to be that if the cliff issue was removed, the US economy would be reasonably well positioned for 2013 – for example, the December reading of home-builder sentiment released yesterday was the strongest since April 2006, signalling improving conditions in the housing sector.

The bright mood extended to the euro currency, which rose 0.5 per cent against the dollar to $1.3224, after Standard & Poor’s upgraded Greek government debt. The rating agency’s move suggested that Greece may soon start to emerge from the throes of its debt crisis now that it has agreed a bond repurchase and unlocked aid from its European partners.

Greek bond yields touched their lowest level this year, according to Tradeweb data, and Spanish and Italian government borrowing costs also fell.

There was a pronounced move away from havens. US Treasuries, already under pressure in recent sessions, sold off heavily, leaving the 10-year yield at 1.83 per cent, near the top of a 30 basis point range of 1.55-1.85 per cent that has held since the start of August.

With chatter building that the great bond rally may be at a turning point, investors tuned in to the Treasury’s $35bn auction of new five-year paper. The government sold the bonds at a yield of 0.769 per cent, with demand lower than at the last auction of five-year notes.

The US dollar index, which tends to fall when the mood improves, was off 0.3 per cent, and gold was down $26 at $1,672 an ounce. Brent crude rose $1.25 to $108.89 a barrel.

Not every growth-sensitive asset joined the party, though. Copper was lower by 0.4 per cent at $3.64 a pound, even as traders absorbed news that an exchange traded fund that will buy physical copper had been given the go-ahead by regulators.

The yen slipped 0.4 per cent to Y84.22 versus the dollar, having already recently fallen heavily on expectations that the country’s new government will push for more aggressive monetary easing.

Japanese stocks have been revelling in the softer yen, yesterday adding another 1 per cent to the Nikkei 225 as exporters were again in demand. The Nikkei has surged 14.6 per cent in just five weeks.

The “reflation” trade in Japan has reduced demand for government bonds, pushing the 10-year yield to a one-month high of 0.75 per cent, though this still leaves yields within several basis points of multiyear lows.

Hopes for a US budget breakthrough were bolstered after John Boehner, the Republican Speaker of the House of Representatives, floated income tax rises for high-earning citizens in return for cuts to entitlements. “It is the first time Mr Boehner has proposed any sort of marginal tax increase, which has some political analysts hoping that now the ideological hurdle is overcome, it will be easier to battle over the details,” said Elsa Lignos, senior currency strategist at RBC Capital Markets.

“But news stories cite anonymous sources saying the offer falls short of Democrat demands because there is not enough revenue, no extension for unemployment insurance benefits and still a long way to go on agreeing cuts to entitlements.”

While most analysts believe that a deal will eventually be negotiated, many remained wary over the near-term outlook for the US economy.

“Our best guess remains that Congress and the president will compromise either this month or very early next month, to avoid a US recession,” said Jan Loeys, global strategist at JPMorgan. “Either way, we see US growth slowing down early next year as not all tax hikes and spending cuts are avoided.”

US data released yesterday did little to clarify the economic picture. The Empire State index of manufacturing activity in the New York area fell to minus 8.1 in December from minus 5.22, against expectations for a slight improvement. “This shows that the economy is still struggling under the weight of excess inventory and limited demand,” said Steven Ricchiuto, chief economist at Mizuho Securities USA.

Fiscal cliff optimists held sway on Wall Street with the S&P 500 equity index closing up 1.2 per cent at its best level of the day.

The better mood came too late to drag markets on the other side of the Atlantic back into positive territory, though. The pan-European FTSE Eurofirst 300 index edged down 0.1 per cent. The UK’s FTSE 100 index ended 0.2 per cent to the downside.

In Tokyo, the Nikkei 225 Average climbed 0.9 per cent following the emphatic election victory for the Liberal Democratic party, which heightened expectations for more aggressive monetary easing and significant fiscal stimulus.

The landslide win put the LDP, led by Shinzo Abe, back in power just three years after it was defeated at the polls.

But not all analysts were confident that Mr Abe’s plans went far enough.

“The new ‘old’ prime minister, Mr Abe, is talking of stimulating growth and fighting deflation,” said Michael Taylor at Lombard Street Research. “But the economy needs structural reform if its long-term growth prospects are to be materially improved and deflation brought to a permanent end.”

On the currency markets, the yen touched Y84.48 against the dollar, the lowest since April 2011, before recovering slightly as the session wore on. The euro, meanwhile, hit its highest point against the yen since last May though it fell against the US dollar to $1.3163.

Selling of highly rated government bonds also pointed to an improvement in investor risk appetite.

The yield on the 10-year US Treasury was up 7 basis points to 1.78 per cent, and the German Bund yield rose 1bp to 1.37 per cent.

But industrial commodities were little moved. In London, three-month copper prices held steady at $8,060 a tonne while Brent crude oil eased 54 cents to close at $107.64 a barrel.

Gold was a shade firmer but could not break back above the $1,700 an ounce mark. The metal last week touched $1,720.